YOUR 1040 JUST TURNED INTO A POST CARD; BUT TAXPAYERS BEWARE

Congress has been crowing about tax simplification for years. They had a one-page income tax return in 1913 when the first modern return was published by the IRS. But even then, a one-page return was a written “sleight of hand” as the first line stated Income and the second said only “Deductions” before calling the result “Net Income”. The new form published on June 29, 2018 by the IRS does purport to be a post card, but as there are still many thousands of pages of tax law and many more thousands of IRS regulations, don’t get too excited just yet.

The new form is worth taking a look at because last year’s tax reform completely altered the landscape of the personal return we have come to know and loathe. There is simplicity: Your 2017 return took 43 lines before you reached the magic box “Taxable Income”. The new form gets you there in 10 lines. How does that come about? By moving most of the tax return to a supplemental document called Statement 1. Statement 1 appears to capture the other 33 lines of the old Form 1040 and Schedule “A” (the itemized deductions) as well. You will still be able to itemize but most people are not going to profit from that experience because a lot of itemized deductions – e.g., mortgage interest, state and local taxes, miscellaneous deductions and medical expense deductions are either phased out or extremely limited.

Family lawyers do these calculations every day, and while we wait for final word and temporary regulations to be published, what we are doing is taking “Gross income” and subtracting $12,000, 18,000 or $24,000 to arrive at taxable income. Those amounts vary based on whether you are single/married/separate ($12,000), head of household ($18,000) or married/joint ($24,000). The tax tables are also new and different, and, as some political groups are advertising, they may mean a tax increase for a fair proportion of “middle Americans”.

The biggest changes:

No more dependency exemptions. If you have four minor children and took the standard deduction in 2017, you had $36,800 in income before the US started to tax you. Today, that tax starts to bite at $24,000. Dependency exemptions exist to determine your tax status (e.g., head of household) but they have no arithmetic meaning (in 2017, you deducted $4,050 for each dependent).

State and local income taxes are now combined with real estate taxes and the deduction is capped at $10,000. This is the change that has our neighbors in New York and New Jersey screaming because they pay significant income and real estate taxes. But, even in low tax Pennsylvania, a person with a $1,000,000 home in suburban Philadelphia commonly pays $16,000 in real estate taxes. That person also typically makes $250,000 a year in income and pays $10,000 in state and local taxes. In 2017 he/she deducted both items and reduced taxable income by $26,000 + any interest payments on the mortgage. In 2018 the mortgage interest deduction is still there, but $16,000 in “tax” deductions (income and real estate tax deductions) disappeared. Result: $4,000 increase in amount due to the IRS.

Alimony. Make your deal and have it in writing before December 31, 2018 because those deals made in 2019 and beyond do not allow alimony to be deducted. Nor is the payment taxable to the recipient.

Miscellaneous deductions included investment fees and sums paid to attorneys to secure an alimony award; gone.

Casualty and theft losses: If uninsured, they used to be partially deductible. Not any more, unless the President declares that your casualty occurred in a disaster area he designates.

The jury appears to still be out on HELOC loans or mortgage interest generally. The conservative advice is that your HELOC needs to be exclusively for improvements to your home for it to be deductible. The mortgage interest on new loans is now capped at $750,000 meaning that if you have a million dollar mortgage you formed after December 15, 2017, one quarter of your interest payment cannot be deducted.

So prepare yourself. Tax reform was sold as tax savings. Some will benefit and some will see their federal taxes on the rise.

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